Rush to Serve the Underbanked Spurs Innovation

It isn't just people on the margins who are moving into the financial mainstream with the help of products developed just for them.

It's the products themselves that are going mainstream.

Some financial institutions are finding that trying to help the unbanked and underbanked is benefiting their business strategy more broadly, not only by bringing in new customers, but by spurring the development of creative products with appeal beyond their initial target audience.

This dynamic is fueled in part by economic insecurity among a wider segment of the U.S. population in the wake of the financial crisis, bankers say. Another factor is that banks are more focused on improving their offerings in general.

Some of the products, such as so-called checkless checking accounts, are relatively new and inspired by competition from nonbank financial providers. Others are more established, having grown out of bank efforts to comply with the Community Reinvestment Act, improve the financial smarts of customers, and displace payday lenders and check-cashers.

"I think what it speaks to is banks getting a better hold on what all their customers really want out of a banking relationship," says Karen Andres, vice president of network engagement for the Center for Financial Services Innovation in Chicago.

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Efforts to deliver affordable products to the unbanked and underbanked generally draw applause from consumer advocates, as well as positive CRA ratings. But some are skeptical about whether banks are interested mostly in creating new business lines to generate revenue or truly aim to forge a relationship with the financially challenged to help them access standard banking services over the long term.

"I think it's all still sorting itself out," says Paul Leonard, a senior vice president at the Center for Responsible Lending in Oakland, Calif. "Part of the traditional approach is ultimately cross-selling. It's lifelong relationships. It's not just about transactions. It's about auto loans and mortgage loans and all that stuff."

Though the crossover appeal of products targeting the unbanked and underbanked is not entirely new, it has accelerated since the downturn, as more people find budgets stretched and loans out of reach, says Heather Czermak, senior director and general manager of the consumer compliance group at Wolters Kluwer Financial Services in Boston. "Even today, it's nowhere near as easy as it was to get credit or a consumer loan," she says.

What follows are three examples of initiatives that promise to help bring the unbanked and underbanked into the mainstream and that are attracting wider interest from bank customers.

No Hassles from KeyBank

KeyBank wanted to offer something of a step up for customers who came in for its low-cost check-cashing services, originally launched in 2004 in selected markets. That something, called the Hassle-Free Account, made its debut in 2014.

The account quickly got the attention of customers beyond its check-cashing target audience, says Rodney Drake, vice president of consumer strategy for the $93 billion-asset Cleveland bank.

In fact, when the account was being tested, customers in the highest-net-worth groups showed the most interest.

Drake says those customers likely were attracted to the product's convenience. The account carries no monthly minimum and no monthly fees. If a customer tries to overdraw the account, the transaction is declined, so there are no overdraft fees either.

The crossover appeal underscores changes in the way people, particularly millennials, think about banking products, Drake says. "It's becoming more about preference than it is about being relegated to products because you don't have a choice."

Some KeyBank customers continue to use only the check-cashing service, which charges a fee of 1.5%, Drake says. But between a quarter and half of those customers have moved into the Hassle-Free Account, suggesting that the step-up strategy is working for some — and for the bank.

Cashing checks brings in revenue, Drake says. But deeper relationships bring in more. "The goal is to drive the product creation around garnering a full relationship," he says. "That's where we will win."

More Freedom at Wesbanco

The CRA Freedom Mortgage owes its name to the surge of patriotism that followed the terrorist attacks of Sept. 11, 2001.

At the time, executives at Wesbanco
Bank were looking to bump up its CRA rating, and they hit on a loan product for borrowers of low to moderate income in its assessment area. The mortgage offered flexible underwriting and a minimal down payment. It also waived requirements for private mortgage insurance. The bank created similar loans for home improvements and autos.

"No one was offering these types of products," says LaReta Lowther, vice president for CRA compliance at the $8.3 billion-asset bank in Wheeling, W.Va. "So we wanted them to be successful."

A few years into the program, the bank began offering Freedom mortgages to all customers, as long as they were buying homes in CRA assessment areas. In 2013, volume for the product totaled $34.8 million, up from $7 million in 2011, Lowther says. Volume slipped to $28.4 million in 2014, a drop officials attribute in part to competition from a similar Wesbanco product acquired in a merger.

The college-debt load of potential twentysomething buyers also is having an impact on volume, says Christopher Knox, Wesbanco's senior vice president of residential lending.

But overall, Freedom mortgages make up roughly 25% to 30% of the bank's total. The mortgage is available with a loan-to-value ratio of up to 97%, but the buyer only needs to come up with a minimum of $500. The rest of the down payment can come from other sources, including gifts and grant programs. Another aspect of the flexible underwriting is that Wesbanco is lenient about medical collection accounts.

Once the mortgage is made, the bank tries to cross-sell other products, Knox and Lowther say.

Wesbanco does not keep statistics on whether borrowers were previously unbanked or underbanked. But Christal Crouso, manager of the HomeOwnership Center at the Fairmont Morgantown Housing Authority in Fairmont, W.Va., says she believes the mortgages help borrowers on the margins, especially since they typically go through some kind of financial counseling before signing. Her agency works with Wesbanco to provide pre-loan counseling — which Wesbanco cites as a big reason why default rates on Freedom loans are lower than the average for its conventional mortgage loans.

Though most of the people getting Freedom loans likely have a bank account, Crouso says, "I would say they don't have a budget, so just getting on a real firm budget where they can learn to put money in savings is helpful."

Mission Asset's Virtuous Circle

The Mission Asset Fund wasn't looking to reinvent the lending circle when it launched its own version in 2008 for low-income residents of the Mission District in San Francisco.

The nonprofit just wanted to plug the centuries-old financing tool into the modern financial system. A lending circle is a small group of people who make regular payments into a pot, and then take turns withdrawing the money.

The circles typically operate under the radar, but Mission Asset arranged to have the payments from its circles reported to credit bureaus, allowing participants to build up credit scores that were low to nonexistent.

Over the last seven years, the circles at Mission Asset have lent out about $3.7 million, including a little more than $1 million in 2014 alone, according to Jose Quinonez, the CEO. Most circles have between eight and 10 participants. They decide among themselves the amount they each want to borrow and pay in, and who gets paid first. Loans are capped at $2,500.

"We want to keep this as a small-dollar loan," says Quinonez.

After a brief orientation, members of a circle must set up a bank account and sign a promissory note. Funds are then transferred into and out of the pot electronically.

In addition to creating lending circles in San Francisco, Mission Asset has trained other nonprofits to replicate them in Boston, Chicago, Los Angeles, Miami, New York and other cities.

"It's a very grassroots, very successful approach," says Bob Annibale, global director of community development and microfinance for Citibank, which has donated more than $1.2 million to Mission Asset.

Banks ultimately benefit from the nonprofit's efforts, because participants often end up tapping banks and credit unions for larger sums, whether to buy cars or start businesses, Quinonez says.

Most lending-circle members end up in a better position to take on those mainstream products. The program, which includes a financial education component, boosted participants' credit scores by an average of 168 points, according to a study by researchers from San Francisco State University. The study looked at more than 600 participants in the Bay Area over a period of two years.

For-profit companies aiming to expand the lending circle concept have been cropping up in recent years. One is eMoneyPool, which has attracted 1,300 users since its launch in 2010 and is hoping to establish credit reporting this year, says Francisco Cervera, co-founder and CEO of the Phoenix company.

For now, users earn a certificate for successfully completing a lending circle, which they can show to eMoneyPool's partners when applying for larger loans. Those partners include credit unions and branches of the microfinancer Accion. The company hopes to add a bank soon, Cervera says.

The service is designed for those who cannot access traditional credit, and most eMoneyPool users are in that category, Cervera says. But based on his experience so far, Cervera estimates up to a quarter would have no problem getting money somewhere else. "That's something that we didn't expect," he says.